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Applying for a Loan Approved, Loan application form, Car loan application approval

A Guide to Car Loan Credit Requirements

Major purchases always seem to happen when you are the least prepared. You need a car but maybe you have never had car financing before or you’ve experienced financial setbacks.

Getting a car loan is possible with any type of credit score, but your options will change depending on your credit score.

Autos 4 Less is committed to helping you find affordable car financing. Good or bad credit, we’ll get you the best interest rate and finance terms.

Read our guide for getting affordable used car financing.

Get Your Credit Report 

Getting your credit report is the first step in learning about what you will be able to afford and the type of loan you can expect.

Your credit report is free. You can get a free credit report every 12 months.

You can view your credit report online easily using any of the following services:

  • TransUnion.com
  • Experian.com
  • Equifax.com
  • FreeCreditReport.com

The Fair Isaac Corporation (FICO) has created a numerical score that helps lenders to decide if you are a good risk for a loan.

There are 5 key parts to your credit report that can affect your FICO score.

Personal Information

This section contains general information about your age, addresses, employers, and social security number. You always want to verify that this information is correct.

Of most importance, a lender is looking for stable employment. If you have gaps in your work history, explain and show proof of current employment.

Your address is important to a lender because they are again looking for stability. If you are moving year to year, explain if the moves are a requirement for your work. 

Credit History

Your credit history weighs in at 35% of your total score. Also, the amount of time that you have been responsibly using credit factors 15% into your overall score.

In your credit history, lenders are looking for on-time payments. Pay on time and in full each month.

They are also looking for a low debt to income ratio. Meaning, you are not maxing out credit cards or carrying more debt than you can afford. This ratio accounts for 30% of your score. 

Credit Inquiries

When you apply for loans, a credit inquiry gets recorded. Lenders want to make sure that you are not applying for multiple loans that could affect your ability to repay your loan with them. 

Credit inquiries can make up as much as 10% of your total score. Speak with your lender about making soft inquiries when applying for a loan.

Public Records

This part of your score reflects any negative financial activity. Things such as bankruptcy and collections for unpaid debts get recorded.

The effect on your score depends on the type of debt that has not been paid.

Personal Statements

To be fair in credit reporting, you can make statements in your credit report that may improve your risk factor with lenders. 

It is important to submit statements about disputes or temporary employment loss that affected your score.

Credit Score

The FICO credit score range is a number from 300 to 850.

How high your score is will determine how well you can shop for competitive interest rates on a loan. An excellent credit score of 800 and above will help you to get the lowest rates on a car loan.

Research Interest Rates

Once you have obtained your credit score, you can use this information to help you understand the interest rate offered by a lender.

An interest rate is the amount of additional money you pay a lender for letting you borrow money.

The term APR (annual percentage rates) is the interest amount that you pay over a year plus any fees charged for managing the loan.

When you are comparing rates, the APR will be most the most important because it gives you a total percentage of interest and fees.

Make sure that you are comparing APR to APR and not APR to interest.

Can You Improve Your Chances for a Better Rate?

Yes, there are things you can do to qualify for a better interest rate. 

  • Pay down credit card debt 
  • Pay off any collections 
  • Make a downpayment on the loan
  • Get a co-signer with better credit

Paying down credit card debt reduces your debt to income ratio. Remember, how you manage credit counts for 30% of your total credit score.

Negative credit such as collections on debt that you have not paid has a factor in whether or not a lender will even offer you a car loan. Make sure that any collections or disputed debt get removed before applying for a loan.

Paying some extra money toward the loan is a downpayment. If you can afford to make a downpayment, this will reduce the total interest rate paid. Also, it reduces the principal amount you are borrowing and may lead to a lower interest rate being offered.

If you have a low credit score because you really do not have much of a credit history, consider asking a trusted family member or friend to be a co-signer. This means that the co-signer offers more security in the loan because they are also responsible for the repayment of the loan.  

Understanding Loan Terms

The length of time to repay a car loan ranges from 24, 36, 48, 60, 72, 84, and 96 months. 

Typically, you want to stay in the range of 60 months for a car loan. This is a reasonable amount of time to pay because you avoid the car’s value depreciating faster than you can pay it off.

Remember, you will be paying interest. The longer you stretch out a car loan, the lower your monthly payment will be but you will end up paying much more in interest.

For example, suppose you purchase a car for $25,000 with an interest rate of 7% for 60 months. You will pay a total of $33,750 for the car. Your monthly payments would be $562.50.

Now, suppose that you cannot comfortably afford a $500 a month car payment. You could stretch the loan length out to 84 months. At a rate of 7%, your total cost for the car would be $37, 250 with a monthly payment of $443.

Type of Car Loans

In addition to understanding how the interest rate is calculated and how much you can afford to pay each month, you need to understand the type of car loan offered.

Simple Interest Car Loan

This type of loan calculates both interest and principal in your monthly payment. (Principal is the price you agree to pay before any interest gets added).

At the beginning of a Simple Interest Loan, you pay more in interest than principal.  It makes sense because the lender is looking to make money and wants to get paid upfront.

As the loan continues, you will begin paying less interest and more on the principal. The advantage is that each month you are paying on both interest and principal.

To save on interest, you can pay a little more than the monthly amount due. Paying more will shorten the length of your loan and also the amount of interest you will pay.

Precomputed Interest

This type of loan calculates the total amount of interest over the life of your loan and applies to your monthly payment right from the beginning.

This means you are paying interest upfront and then after the interest is met, payments will begin to apply to the principal. Making larger payments or paying off the loan early will not really save you money.

Many states do not allow for precomputed interest on car loans now because it is not favorable to the consumer who may be unaware of how this type of loan works. 

Secured Vs Unsecured

When you finance a car loan through a lender or a dealership, your loan is secured. This means that the car you are buying is collateral. If you stop making payments, your car will get taken. 

If you have excellent credit, you could also take out an unsecured personal loan. This means that your car is not tied to the loan. If you miss or stop making payments your car will not get repossessed. Your lender will file for collections and possible litigation to recover the money owed.

Get Affordable Used Car Financing

Applying for used car financing can be a little scary, but it doesn’t have to be confusing or complicated. Don’t let financing vocabulary take away the joy of making a great purchase.

Now that you have read this guide, you are a little more informed about the process of applying for a car loan and determining what you can afford.

A professional will always be knowledgeable and able to answer all of your questions about affordable car financing. Don’t be afraid to ask!

Let an expert help you to get to the finish line and secure the most affordable used car financing for you today.